Research

Abstract

The ultimate goal of macroprudential policy is to prevent and reduce the costs of systemic financial crises, and thus contribute to promoting sustainable economic growth. However, despite the active role played by such policies in recent decades, there is still limited empirical evidence regarding whether prudential regulation is effective to enhance financial stability by preventing and mitigating crisis risk. This paper seeks to close that gap by studying the relationship between macroprudential policy and both the likelihood and severity of financial crises. The contribution of the paper is twofold. First, I show that macroprudential policy tightenings are successful at reducing the frequency of systemic financial crises. Moreover, this result holds even if macroprudential policies are implemented when the economy is already experiencing a financial boom or when monetary conditions are rather accommodative. I point to the prevention and mitigation of financial booms as the main transmission mechanism through which macroprudential policy defuses crisis risk. Second, I find that macroprudential policy enhances the resilience of the financial system, by dampening the output losses associated with future systemic financial crises. The latter result implies that macroprudential policy not only makes financial crises less likely, but also less painful. 

Abstract

This paper examines the development and impact of macroprudential policies in the euro area. We construct a novel index that captures the stance of macroprudential policy, and we highlight its main stylised facts since the inception of the euro in 1999. We combine a narrative approach and a structural VAR method to show that both unanticipated or surprise shocks and anticipated or news shocks contribute over the medium and long term to safeguard financial stability. We suggest that the differential effects between the two shocks is due to an anticipation period of around two years generated by progressive communication about the future direction of macroprudential policies. We also find significant linkages between monetary and macroprudential policies that enhance the policy mix.

Abstract

We estimate the causal effects of macroprudential policies on the entire distribution of GDP growth for a panel of advanced European economies using a narrative-identification strategy in a quantile-regression framework. While macroprudential policy has near-zero effects on the centre of the GDP-growth distribution, tighter policy brings benefits by reducing the variance of future growth, significantly boosting the left tail (i.e., GDP-at-Risk) while simultaneously reducing the right. Assessing a range of channels through which these effects materialise, we find that macroprudential policy particularly operates through `credit-at-risk': it reduces the right tail of future credit growth, dampening credit booms, in turn reducing the likelihood of extreme GDP-growth outturns. Overall, our results provide novel evidence about the causal effects of macroprudential policy on the distribution of future macroeconomic outcomes.

Presented (by me) at: Society for Nonlinear Dynamics and Econometrics (SNDE); Banco de España; Bank of England (x2); Universitat de les Illes Balears; Spanish Economic Association (SAEe); CEMLA/Federal Reserve of Dallas Financial Stability Workshop; UA Eco Junior Workshop; International Panel Data Conference (IPDC).

Abstract

Recent theoretical studies have highlighted that both the level of public debt and the unit cost of servicing the debt (r −g) play a role in the sustainability of the public finances. This paper builds on this literature and introduces a new approach in the analysis of the link between economic downturns and sovereign debt risks by considering the total public debt burden, that is, the interaction between the level of debt and r−g. We do this for 18 advanced economies over 150 years. Our analysis reveals three novel findings. First, we document that the level of public debt and the interest-growth differential exhibited contrasting patterns over extended periods of time, strengthening the argument to use both of them in an analysis that accounts for public debt sustainability risks. Second, we uncover a plausible causal effect that runs from the total burden of public borrowing prior to a financial crisis to the severity of the crisis. We demonstrate that high levels of public debt burden imply that recessions experience deeper economic downturns and falls in investment, deflationary pressures and significant credit contractions. This result highlights that limited fiscal space at the onset of a financial crisis systematically exacerbates the severity of the crisis. Third, we show that, whilst a high total debt burden does not systematically precede financial crises, these crises, when they occur, do systematically worsen both the level and the cost of public debt, thus increasing the likelihood of sovereign debt crises in the aftermath of financial crises.

Presented (by me) at: Royal and Scottish Economic Society Conference (RES-SES); International Conference on Macroeconomic Analysis and International Finance (ICMAIF).